Intellectual Property Strategist ® Volume 21, Number 5 • February 2015

The Intellectual Property Strategist ® Volume 21, Number 5 • February 2015

Will the Supreme Court Remove Brulotte’s Shadow Over Patent Licensing?

Part Two of a Two-Part Article

By Sean Gates and Jeny Maier The court, however, left open the five-year period. After the licensee made question of whether a license agreement the third royalty payment, the patent Part One, last month, set the stage for that allocates royalty payments between was declared invalid and the licensee a possible overruling by the U.S. Supreme the patent rights and the trade secret refused to pay any further royalties, Court of its 1964 ruling in Brulotte v. rights would be enforceable. Id. at 1372 contending it was illegal for the licen- Thys Co. that the collection of royalties n.12 (“In light of our conclusion that the sor to exact royalty payments after the after a patent’s expiration constitutes per [agreement] violates federal patent law, patent was declared invalid. The district se patent misuse by looking at the case’s and the fact that there is no allocation court agreed and held that a holder of critics and its impact on licensing over in the agreement, we need not decide an expired or invalid patent is prohib- the last 50 years. In Part Two, the authors whether allocation — of some similar ited from collecting royalties due after continue that discussion and look at the provision — would have rendered it the patent was declared invalid. Id. at arguments made to the Supreme Court enforceable.”) If a patent owner could 14. The court explained that because for and against overruling the case. prove that it did not use the patent mo- the royalty was for both the patent and nopoly to leverage payments after the know-how, it should be considered a hy- Hybrid Licenses patent expiration, then the agreement brid royalty, but because the agreement Courts have also struggled in dealing providing for continuing trade secret failed to attribute a specific portion of with post-expiration royalty provisions royalties could be enforced. Id. Other the royalty to the know-how rather than in so-called “hybrid” licenses — pack- courts have applied this reasoning to the patent, the court held that the entire age licenses for issued patent rights hold that provisions in hybrid licenses provision was unenforceable. Id. (citing and non-patent rights, such as trade se- that do not have a step-down in royalty Pitney Bowes). Nevertheless, the court crets and know-how. The Eleventh Cir- rate after the patent expires are unen- noted that the licensor may be entitled cuit, for instance, has held that a hybrid forceable. See, e.g., Baladevon, Inc. v. to compensation for the value of the license constitutes misuse under Bru- Abbott Labs., Inc., 871 F. Supp. 89, 97 know-how. Id. at 15. lotte where: 1) the rights granted under (D. Mass. 1994) (citing cases but noting the license agreement applied equally Patent Applications that some compensation for non-patent before and after the patents’ expiration; Brulotte also casts its shadow over li- rights may be appropriate to avoid un- and 2) the agreement required the li- censes of pending patent applications. In just enrichment); Sanford Redmond, censee to pay royalties at the same rate Aronson v. Quick Point Pencil Co., 440 Inc. v. Mid-America Dairymen, Inc., 29 and on the same basis both before and U.S. 257 (1979), the Supreme Court up- U.S.P.Q. 2d (BNA) 1222, 1226 (S.D.N.Y. after the patents’ expiration. See, Pitney held an agreement that provided for per- 1992) (citing Pitney Bowes); Veltman v. Bowes, Inc. v. Mestre, 701 F.2d 1365, petual royalties on sales of a product, then Norton Simon, Inc., 425 F. Supp. 774, 1373 (11th Cir. 1983). the subject of a pending patent applica- 776 (S.D.N.Y. 1977) (license agreement tion, at a specified rate if the patent is- invalid where it failed to allocate roy- sued and a lower royalty rate if the patent Sean Gates is a Partner in the Los An- alties between patent and non-patent did not issue. The Court explained that geles office of Morrison & Foerster LLP rights, and had no distinction between the principle underlying the holding in focusing on antitrust, unfair competi- the pre- and post-expiration terms); see Brulotte was “simply that the monopoly tion, patent and trade secret matters. also, Nordion Int’l, Inc. v. Medi-Physics, granted under a patent cannot lawfully He can be reached at [email protected]. Inc., No. 95 C 1323, 1995 U.S. Dist. LEX- be used to ‘negotiate with the leverage Jeny Maieris a senior associate in Mor- IS 12639 (N.D. Ill. Aug. 29, 1995), where of that monopoly,’” but, in this case, “the rison & Foerster’s Antitrust Practice a license agreement for the use of the reduced royalty, which is challenged, far Group in Washington, DC. She can be licensor’s patent and technology called from being negotiated ‘with the leverage’ reached at [email protected]. for royalty payments to be paid over a of a patent, rested on the contingency that LJN’s The Bankruptcy Strategist February 2015 no patent would issue within five years.” expiration royalties if the agreement does plus 3% of net sales of: 1) products that Id. at 265 (emphasis in original) (quoting not provide for a step-down for the post- would be deemed to infringe the patent; Brulotte, 379 U.S. at 33). expiration period or for the failure of the and 2) Web Blaster products. In cases concerning license agreements patents to issue. See, Boggild, 776 F.2d at A number of years later, the parties covering patent applications where the 1321 (“As in Brulotte, the agreement con- found themselves in litigation over the patent actually issues, however, courts tains neither provisions for reduction of amount of royalties due to Kimble under have applied the Brulotte rule to conclude royalties in the event valid patents never the settlement. The district court granted that agreements providing for post-expi- issued nor terms for reduction of post- summary judgment for Marvel, holding ration royalties are unenforceable. As the expiration royalties. … Therefore, under that the settlement was a “hybrid” license Sixth Circuit explained: “Once the pend- Brulotte, the agreement is unlawful per and, because it did not specify different ing patent issues, enforcement of royalty se.”); Meehan, 802 F.2d at 886 (“Under royalty rates for the patent and non-pat- provisions for other rights which con- Brulotte when royalty payments extend ent rights, the royalties had to end when flict with and are indistinguishable from unchanged beyond the life of a patent, the patent expired. royalties for patent rights, is precluded.” patent leverage has been abused and is On appeal, the Ninth Circuit first sum- Boggild v. Kenner Prods., 776 F.2d 1315, unlawful per se”); Pitney Bowes, 701 F.2d marized the rule of Brulotte and its prog- 1319 (6th Cir. 1985). The court thus held at 1373. The necessity of coercion in such eny: “[A] license for inseparable patent that the terms of a license agreement cases may depend on the circuit in which and non-patent rights involving royalty for patent applications calling for royal- the case is brought. A license to a package payments that extends beyond a patent ty payments after the expiration of the of patent applications, however, may ex- term is unenforceable for the post-expi- later-issued patent were unenforceable tend royalties out to the expiration of the ration period unless the agreement pro- under Brulotte where the parties enter last patent, even though the date of expi- vides a discount for the non-patent rights the agreement “with clear expectations ration is uncertain because the patent has from the patent-protected rate.” Kimble that a valid patent will issue.” Id. at 1316. not yet been issued. Similarly, a license v. Marvel Enters., Inc., 727 F.3d 856, 863 According to the Sixth Circuit, patent ap- that includes future improvements to an (9th Cir. 2013). While acknowledging plications give the applicant bargaining invention may also extend the royalty that its “application of the Brulotte rule power (or, in the language of Brulotte, term to the expiration of any subsequently in this case arguably deprives Kimble of “leverage”) just like issued patents but issued improvement patent, even if no ap- part of the benefit of his bargain based to a lesser extent. Id. at 1320-21 (“In our plication was filed for the improvement at upon a technical detail that both parties view, the same violations of patent law the time of the license. Zila, Inc. v. Tinnell, regarded as insignificant at the time of arising from abuse of the leverage at- 502 F.3d 1014, 1027 (9th Cir. 2007). the agreement,” the Ninth Circuit never- tached to a pending or issued patent can theless held it was bound by Brulotte to The Case Before the arise from abuse of the leverage afforded affirm the judgment in favor of Marvel. by an expressly anticipated application Supreme Court Id. at 866-67. for a patent. … The terms of the licensing The criticisms of Brulotte have now agreement compel the conclusion that, at been placed before the Supreme Court The Differing Views of the time the parties executed the license, in Kimble v. Marvel Enterprises, Inc. Rec- Brulotte the plaintiffs exerted considerable lever- ognizing these criticisms as “particularly Kimble’s petition for certiorari brought age from the anticipated patents”). apt,” the Ninth Circuit in Kimble never- out a number of amici, nearly all sup- The Seventh Circuit similarly reasoned, theless held that it was bound to follow porting Kimble’s argument that Brulotte “It is the issuance of the patent that trig- Brulotte. The court therefore issued a is ripe for reconsideration because: 1) it gers Brulotte’s application.” Meehan v. halfhearted decision, which created the prevents efficient and procompetitive li- PPG Indus., Inc., 802 F.2d 881, 885 (7th opportunity for the Supreme Court to censing transactions; and 2) it is inconsis- Cir. 1986). The court focused on the ex consider whether Brulotte should finally tent with the Supreme Court’s current ju- ante bargaining positions of the parties be overruled. risprudence regarding the market power to the agreement: Kimble concerns a long-running dis- conferred by ownership of a patent. The Even when an inventor has not yet pute between Stephen Kimble, the inven- Solicitor General’s amicus brief, however, applied for a patent, the right to ap- tor of a patented toy that allows users to argued that certiorari was not warranted ply for and obtain those protections shoot foam string out of a glove, and Mar- because: 1) principles of stare decisis sup- is valuable. Such a right places the vel Enterprises, the owner of the Spider- port leaving Brulotte undisturbed; and 2) inventor in a strong bargaining posi- Man comic book franchise. In 1997, Kim- criticisms of Brulotte based on antitrust tion. It is abuse of that leverage over ble sued Marvel for patent infringement principles are inapposite because the de- which the Supreme Court expressed and breach of an oral contract, claiming cision was based on other concerns. The concern in Brulotte. Id. that Marvel had developed a toy — the government argued that Brulotte reflects The courts have thus treated licenses to Web Blaster — that incorporated his pat- “the policies of the federal patent laws, patent applications in which a patent is- ented idea and other ideas that Kimble which the Court has repeatedly viewed sues similarly to hybrid licenses. Brulotte had disclosed to Marvel. As part of a set- as precluding enforcement of legal or may thus invalidate license agreements tlement agreement, Marvel agreed to pur- contractual provisions that would impair for patent applications providing for post- chase Kimble’s patent for a cash payment the public’s access to formerly patented LJN’s The Bankruptcy Strategist February 2015 inventions after the relevant patents ex- Amicus Br. Most notably, Brulotte’s critics and for enjoyment by the general pub- pire.” United States as Amicus Br. at 12. point to the Court’s decision in Illinois lic.” Id. at 17. In the government’s view, The amicus briefs from academic and Tool Works Inc. v. Independent Ink, Inc., the economic critique of Brulotte does research organizations contend that Bru- 547 U.S. 28 (2006), as calling into question not justify overturning “that settled rule lotte emphasizes form over function, the theoretical underpinnings of Brulotte of patent policy.” Id. at 19. Echoing an ar- discouraging “flexible licensing agree- — namely, that a patent confers market gument made by Marvel, the government ments needed for commercialization of power on a patent holder. Brulotte’s per contends that Brulotte’s rule is narrow, inventions.” Center for Intellectual Prop. se rule is premised on the view that post- and that “private parties enjoy significant Research Amicus Br. at 3. The Supreme expiration royalties are, by definition, leeway in structuring license agreements Court has long recognized that a patent an improper (coercive) extension of the to spread payments over a period longer holder may license its patent for a fixed patent-holder’s monopoly power into the than the patent term, and to contract for sum. These amici contend that there are post-expiration period. After Illinois Tool non-patent royalties.” Id. at 20. a number of ways to structure the pay- Works, patents are no longer presumed to The Potential Impact of ment of such a fixed sum, but Brulotte create monopoly power, and most licens- condones some of these structures while ing arrangements are instead evaluated The Court’s Decision forbidding others — without any eco- under the rule of reason. Not only do The Court’s decision in Kimble may have nomic justification. Id. at 3-5. many treatises in the fields of intellectual a significant impact on licensing practices. According to some amici, Brulotte has property and antitrust denounce the Bru- There are at least three possible outcomes. had an acute negative impact on licens- lotte per se rule as being misguided, the First, the Court could, as the Solicitor Gen- ing in the pharmaceutical and biologic antitrust agencies have twice set forward eral urges, leave Brulotte undisturbed and areas. See, Memorial Sloan-Kettering Can- guidelines that reject per se treatment leave in place its shadow over patent li- cer Ctr. Amicus Br. at 5-7. Many academic for patent licenses with post-expiration censing. Second, the Court could over- research institutions conduct early-stage royalties. See, Pet. for Cert. at 13 (citing rule Brulotte and hold that an agreement research to discover new compounds or publications). See also, U.S. Dep’t of Jus- to pay post-expiration royalties is lawful. treatments for serious diseases and pat- tice & Federal Trade Comm’n, “Antitrust Third, the Court could hold that whether ent their discoveries. Because these insti- Guidelines for the Licensing of Intellec- an agreement that includes post-expira- tutions lack the expertise and resources tual Property” (1995); U.S. Dep’t of Jus- tion royalties constitutes misuse should be needed for commercial development of tice & Federal Trade Comm’n, “Antitrust analyzed under the rule of reason as are a drug, they typically grant a license to Enforcement and Intellectual Property other types of conduct. These latter two companies with the financial resources Rights: Promoting Innovation and Com- outcomes would have ripple effects that and business expertise to undertake de- petition,” 12 (2007) Instead, the agencies would significantly change the analysis velopment, seek regulatory approval, and recognize that licensing often has signifi- not only for agreements involving a single commercialize the drug. In this context, cant efficiency benefits, and collecting patent, but also for agreements involving licensees prefer to delay payments as royalties beyond a patent’s statutory term patent applications, packages of patents, long as possible because of the difficulty can be efficient. Id. and packages of patents and other intel- and uncertainty of bringing a product to Despite the agencies’ guidelines and a lectual property rights. market, and therefore prefer to base the history of scholarship criticizing Brulotte, Those involved in patent licensing license payments on the sale of the com- the Solicitor General’s amicus brief in need to keep a close eye on Kimble. We mercialized, approved drug. This arrange- Kimble recommended that the Supreme may see another old Supreme Court prec- ment accommodates the licensee’s desire Court deny certiorari, arguing instead edent overruled or significantly altered. to conserve its current financial resources that principles of stare decisis should ap- —❖— and to shift some of the risk of failure to ply. United States Amicus Br. at 8-11. The the licensor. According to these amici, the government argues that Brulotte should licensor is generally willing to delay re- be left undisturbed because it reflects Reprinted with permission from the February 2015 edition of the ceipt of its royalties because it lacks the the policies of the federal patent laws — Law Journal Newsletters. © 2015 ALM Media Proper- ability to commercialize the drug. These not the antitrust laws. According to the ties, LLC. All rights reserved. Further duplication without per- mission is prohibited. For information, contact 877.257.3382 or amici thus argue that this arrangement is government, even though “some aspects [email protected]. #081-02-15-01 economically efficient for both licensor of Brulotte’s analysis reflect antitrust- and licensee, and that it benefits society type reasoning,” it “does not rest solely, by facilitating the introduction of new or even predominantly, on assumptions treatments to the market. Id. about market power. Rather, it reflects Legal and academic scholars have also an affirmative vision of the scope and criticized Brulotte as being inconsistent purposes of the patent laws ….” Id. at with the Supreme Court’s modern juris- 15-16. The patent laws, according to the prudence on issues at the intersection of government’s brief, “reflect an affirmative intellectual property and antitrust. Center congressional policy judgment that the for Intellectual Prop. Research Amicus patented invention should thereafter be Br.; Intellectual Prop. Law Ass’n of Chi. freely available for exploitation by others